Types of Mortgages
A mortgage will become your biggest debt in years! For most people it is true, but it not as scary as it may sound. When you have the knowledge, when you understand what exactly is going on, when you are in full control of the situation – trust me, it is not scary!
I am here to share all the knowledge of the matter I have, with you.
We’ll start with the general idea of the most frequently used mortgage programs.
The two fundamental types of mortgages are the Fixed Rate Mortgage and the Adjustable Rate Mortgage. They both are amortized mortgages, which means that you have to repay the money you borrow (the principal) plus the interest on this money. As the name suggests, the Fixed Rate Mortgage provides the comfortable stability of a fixed interest rate – no matter what, you always know that you will not wake up one day to find out that your debt has unexpectedly doubled. If you have a stable job and your income flow is smooth and steady – this kind of mortgage can be for you. The only problem is that its Interest Rate may be higher than the Interest Rate of an Adjustable Rate Mortgage. You have to pay for the comfort, but it may be well worth it, if you don’t feel very adventurous about your finance.
An Adjustable Rate Mortgage usually looks very appealing in the beginning – the lenders use this trick to attract more customers, but later on the Rate can be changed and, as you understand, there are extremely few, if any, lenders ready to make the rate lower, so it will go up. However, the probability of you waking up to a doubled debt even with this type of mortgage is next to impossible either. There are laws and regulations about adjustable mortgage rates, protecting both the borrower and the lender. First of all, in the very beginning you can have the Rate fixed for as long as several years (the longer this period – the higher the Rate). Next is the Interest Rate Cap - the limit of the Rate increase. Moreover, the increase of the rate is not the personal whim of the lender. The rates are determined by several macro-economical indexes, which, in fact, are not controlled by the lender in any way, or by anyone at all, except for His Majesty Market.
All other types of mortgages are basically variations and derivatives of these two. The number of the variants is practically unlimited, which is good, because you will always be able to find a program to satisfy your needs and budget.
For example, an Option Adjustable Rate Mortgage adds a lot of flexibility (and complexity) to a conventional Adjustable Rate Mortgage. Every month you are given a choice of payment options: you can pay an amount equal to a period payment of, say, an interest-only mortgage with your actual interest rate, or as if your Interest Rate were 1%, or some other combination. The Interest Rate can be adjusted any month, too. This mortgage plan can be perfect for people whose income is not even all the year around. The only thing that is fixed in this mortgage plan is the minimum amount of a period payment, which, as usual, is very attractive in the beginning, but beware - it tends to increase with time and may actually result in an amount virtually impossible for you to pay.
Fixed Rate Mortgages may have an easier mechanism, but it does not mean they lack options. The most common of them is the so-called Balloon Mortgage. It’s a sort of a cross-breed of a fixed rate and an adjustable rate mortgage. On the one hand, the Period Payments are calculated on the same basis as, say, with a 30-year Fixed Rate Mortgage, but the actual “balloon” term is considerably shorter. Usually, after 5 or 7 years the Balloon Mortgage has to be completely repaid, which forces the borrower to either pay off the remainder of the balance himself at the end of this period of time or refinance at a new interest rate. The new rate, however, is not limited the way it is with an Adjustable Rate Mortgage, so you can expect literally anything. Most lenders do have common sense, though. This type of mortgage has proved to be useful to people who intend to move out of the property as the balloon period expires.
An Interest-Only Mortgage can be very helpful if you feel that actual repaying of both the amount you’ve borrowed (the principal) and the interest on it may become an unbearable burden to your budget. You may consider paying only the interest, but beware – after the 30 years of accurate repayments, the mortgaged property will not be yours! The full amount of the principal (unless you make some occasional extra payments) will still be your debt, and you’ll have to either sell your property and repay the debt or re-mortgage the property on the terms that will exist 30 years ahead from now. Most lenders, however, prefer mortgages that do get repaid, so you may find it quite tricky finding a lender ready for a complete 30-year Interest-Only Mortgage. Usually a starting period of 5 Interest-Only years is offered, but after that you will have only 25 years left to repay the Principal – the period payments will be even higher!
Quite an interesting option is the so-called Piggyback Mortgage. When buying a home, the buyer is usually required to put at least 20% of the purchase price down. Unfortunately, not every buyer is capable of doing that easily. That’s where one can count on some crucial support from a Piggyback. You mortgage 80% of your new home on the terms of your selected mortgage, and then the remainder of 20% too, as a fine addition to the major mortgage, but on different terms. You end up with actually a combination of two mortgages on the same property, with an advantage that you don’t have to put down any money of your own. This combination would make an 80/20/0 Piggyback Mortgage, i.e. 80% - your first mortgage, 20% - the secondary mortgage, 0% - your own money. Other frequently used options are 80/15/5, 80/10/10 and 80/5/15.
